TopMan sold of wood-based furniture to Kahn Design, Inc. a British firm, for 2,000,000. The Company...

 

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TopMan sold of wood-based furniture to Kahn Design, Inc. a British firm, for 2,000,000. The Company has no other current foreign customers, so the currency risk of this sale is of particular concern. The sale is made in April with payment due six months later in October. The Company operates on relatively narrow margins and concerns on the possibility that the pound will fall. The Company wanted the deal for both financial and strategic purposes. The budget rate, the lowest acceptable dollar per pound exchange rate, was therefore established at Rp17.600/. The Company expects the spot exchange rate in next 6 month will be Rp18.320/. Any exchange rate below this budget rate would result in TopMan realizing no profit on the deal. Four alternatives are available to TopMan to manage the exposure: (1) remain unhedged; (2) hedge in the forward market; (3) hedge in the money market; or (4) hedge in the options market. Account receivable () Expected spot exchange rate in 6-month (Rp/) 1-month forward rate (Rp/) 3-month forward rate (Rp/) 2,000,000 18,320 18,350 18,200 18,150 17,800 9.62% 6-month forward rate (Rp/) 1-year forward rate (Rp/) IDR 6-month borrowing rate (p.a) IDR 6-month investment rate (p.a) UKE 6-month borrowing rate (p.a.) UK 6-month Investment rate (p.a) PT Naturale's WACC 6-month options Put options on 2,000,000 at exercise price of Rp18,000/ a 1% premium Call options on 2,000,000 at exercise price of Rp18,000/ a 3% premium 7.82% 9.22% 8.42% 12% a. What are the costs and benefits of alternative hedges? Which would you recommend and why? b. What is the break-even investment rate when comparing forward and money market alternatives? c. The two methods for the translation of foreign subsidiary financial statements are the current rate and temporal methods. Briefly, describe how each of these methods translates the foreign subsidiary financial statements into the parent company's consolidated statements. Identify when each technique should be used and the major advantage(s) of each d. Why is it difficult to measure operating exposure? TopMan sold of wood-based furniture to Kahn Design, Inc. a British firm, for 2,000,000. The Company has no other current foreign customers, so the currency risk of this sale is of particular concern. The sale is made in April with payment due six months later in October. The Company operates on relatively narrow margins and concerns on the possibility that the pound will fall. The Company wanted the deal for both financial and strategic purposes. The budget rate, the lowest acceptable dollar per pound exchange rate, was therefore established at Rp17.600/. The Company expects the spot exchange rate in next 6 month will be Rp18.320/. Any exchange rate below this budget rate would result in TopMan realizing no profit on the deal. Four alternatives are available to TopMan to manage the exposure: (1) remain unhedged; (2) hedge in the forward market; (3) hedge in the money market; or (4) hedge in the options market. Account receivable () Expected spot exchange rate in 6-month (Rp/) 1-month forward rate (Rp/) 3-month forward rate (Rp/) 2,000,000 18,320 18,350 18,200 18,150 17,800 9.62% 6-month forward rate (Rp/) 1-year forward rate (Rp/) IDR 6-month borrowing rate (p.a) IDR 6-month investment rate (p.a) UKE 6-month borrowing rate (p.a.) UK 6-month Investment rate (p.a) PT Naturale's WACC 6-month options Put options on 2,000,000 at exercise price of Rp18,000/ a 1% premium Call options on 2,000,000 at exercise price of Rp18,000/ a 3% premium 7.82% 9.22% 8.42% 12% a. What are the costs and benefits of alternative hedges? Which would you recommend and why? b. What is the break-even investment rate when comparing forward and money market alternatives? c. The two methods for the translation of foreign subsidiary financial statements are the current rate and temporal methods. Briefly, describe how each of these methods translates the foreign subsidiary financial statements into the parent company's consolidated statements. Identify when each technique should be used and the major advantage(s) of each d. Why is it difficult to measure operating exposure?

Answer rating: 100% (QA)

Answer TopMans Currency Risk Management a Costs and Benefits of Alternative Hedges Remain Unhedged Benefits No upfront cost Costs High risk of exchange rate fluctuations below the budget rate Rp17600 ... View the full answer